Revised Guidance on Accounting for and Making Loan Modifications

On April 7, 2020, the US federal banking regulators issued a revised interagency statement (the “Revised Statement”) concerning agency treatment of loan modifications made in response to COVID-19.[1] The Revised Statement updates a prior statement that the regulators issued on March 22, 2020 to (i) address the enactment of the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act on March 27, 2020[2] and (ii) provide greater clarity on whether a modified loan should be classified as a troubled debt restructuring (“TDR”) and the regulators’ enforcement posture with respect to loan modifications. See our Legal Update on the prior statement. A redline of the Revised Statement against the March 22 statement is included at Annex A.

Background

The regulators had initially indicated on March 19, 2020 that a modified loan did not need to be reported as past due, but left unaddressed whether a modified loan was a TDR, in nonaccrual status, or subject to charge-off.[3] The March 22 statement expanded on the earlier guidance by indicating that the regulators would allow financial institutions to freeze the TDR status of borrowers, on an individual loan or loan program-wide basis irrespective of any loan modification that was made under that statement. Further, the March 22 statement indicated that modified loans generally would not need to be reported in nonaccrual status or charged-off, at least initially. The March 22 statement, however, did not indicate if institutions must maintain an allowance account for estimated losses from such loans.

On March 27, 2020, the CARES Act became law. Section 4013 of the CARES Act provides financial institutions the option to temporarily suspend certain requirements under US generally accepted accounting principles (“GAAP”) related to TDRs for a limited period of time to account for accommodations made to borrowers due to the effects of COVID-19.

Effect of the CARES Act

The Revised Statement describes how the regulators will apply Section 4013 of the CARES Act.

First, the Revised Statement defines a loan modification that qualifies under Section 4013 as one that is:

• related to COVID-19;
• executed on a loan that was not more than 30 days past due as of December 31, 2019; and
• executed between March 1, 2020, and the earlier of (A) 60 days after the date of termination of the national emergency declared on March 2020 or (B) December 31, 2020.

Second, the Revised Statement provides that a loan modification that qualifies under Section 4013 does not need to be classified as a TDR for accounting purposes or reported as a TDR in regulatory reports, although institutions should keep records of qualifying loan modifications in case bank examiners request them. It also states that institutions do not need to determine impairment associated with certain loan concessions that would otherwise have been required for TDRs (e.g., interest rate concessions, payment deferrals, or loan extensions).

Non-CARES Act Loan Modifications

The Revised Statement indicates that loan modifications that do not qualify under Section 4013 remain subject to the guidance in the March 22 statement (i.e., short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not TDRs). It clarifies that financial institutions may forgo a TDR analysis under GAAP if the loan modification is in response to the national emergency that was declared on March 13, 2020; the borrower is current on payments at the time the modification program is implemented; and the modification is short-term (e.g., six months).

Regulatory Capital Treatment

The Revised Statement clarifies that modified loans for one-to-four family homes will not be treated as restructured or modified for the purposes of their risk-based capital rules if they were prudently underwritten and are not 90 days or more past due or carried in nonaccrual status. The “90 day” modifier was not present in the March 22 statement.

Loss Reserving

The Revised Statement indicates that institutions should maintain appropriate allowances for loan and lease losses or allowances for credit losses, as applicable, for all modified loans.[4] This provision appears to clarify that the regulators will not suspend loss reserving requirements for loans that may be negatively affected by COVID-19, although it is less than definitive in this regard.

Enforcement Posture

The Revised Statement indicates that lenders and servicers should adhere to consumer protection requirements, including fair lending laws, to provide the opportunity for all borrowers to benefit from loan modifications. However, regulators will take into account the unique impact of COVID-19on borrowers and institutions as well as any institution’s good-faith efforts to respond accordingly.

Therefore, the regulators expect that supervisory feedback for institutions will be focused on identifying issues, correcting deficiencies, and ensuring appropriate remediation to consumers. The Revised Statement indicates that regulators do not expect to take a consumer compliance public enforcement action against an institution, provided that the circumstances resulted from COVID-19 and that the institution make good faith efforts to support borrowers and comply with applicable law.

Takeaways

While the guidance on loss reserving for COVID-19 modified loans is less accommodating than that for TDR reporting and the capital treatment of modified loans, the flexible and forgiving enforcement posture reflected in the Revised Statement underscores regulatory expectations regarding the accommodations that bank lenders are expected to extend to borrowers negatively impacted by COVID-19.

[1] Agencies issue revised interagency statement on loan modifications by financial institutions working with customers affected by the coronavirus (Apr. 7, 2020), https://www.federalreserve.gov/newsevents/pressreleases/bcreg20200407a.htm. The US federal banking regulators are the Board of Governors of the Federal Reserve System (“FRB”), Federal Deposit Insurance Corporation (“FDIC”), National Credit Union Administration (“NCUA”), Office of the Comptroller of the Currency (“OCC”), and Consumer Financial Protection Bureau (“CFPB”).

[2] See Coronavirus Aid, Relief, and Economic Security Act, Pub. L. No. 116-136, 134 Stat. 281 (Mar. 27, 2020).

[3] FDIC, FIL-17-2020 (Mar. 13, 2020), https://www.fdic.gov/news/news/financial/2020/fil20017.html; FDIC, FIL-18-2020 (Mar. 19, 2020), https://www.fdic.gov/news/news/financial/2020/fil20018.html.

[4] Section 4014 of the CARES Act provided temporary relief from having to comply with the new accounting standards for maintaining allowances for credit losses, but did not remove the requirement to maintain allowances for loan and lease losses. See Joint Statement on Interaction of the Regulatory Capital Rule: Revised Transition of the CECL Methodology for Allowances with Section 4014 of the Coronavirus Aid, Relief, and Economic Security Act (Mar. 31, 2020), https://www.federalreserve.gov/supervisionreg/srletters/SR2009.htm.

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